On 28 September 2018, the Swiss Parliament passed the “Federal Act on Tax Reform and AHV Financing (TRAF)”. Parliament amended the Tax Proposal 17 put forward by the Federal Council to include a social equalization measure concerning AHV financing. The content of the tax reform is basically based on the Corporate Tax Reform III (CTR III) – which was rejected by public vote – but the measures have been somewhat weakened. The additional AHV financing is intended to increase public acceptance of the reform. With EU finance ministers meeting in March 2019 to discuss adjustments to their black list, the urgency of the reform remains high.
The final package of tax reform measures
Like its predecessor, the new tax reform pursues the same three main objectives: to maintain the attractiveness of Switzerland as a business and tax location, to promote international acceptance of the Swiss corporate tax legislation and to ensure sufficient tax revenues to finance public activities. Therefore, some elements of the CTR III, which failed in the public vote, are still included in the new proposal. Other elements have been added subsequently in order to create a balanced reform that – hopefully – meets with acceptance. The key measures are:
- The central component of the reform continues to be the abolition of status companies and certain tax practices at federal level. A temporary special tax rate solution should enable cantons to avoid over-taxation of companies switching to ordinary taxation.
- The main element of the new proposed compensatory measures is the mandatory introduction of the patent box at cantonal level. The box is limited to (Swiss and – if comparable – foreign) patents and IP similar to patents. The latter are narrowly defined and include supplementary protection certificates, topographies, protected varieties of plants, protected documents under the Therapeutic Products Act and reports protected by the Ordinance on Plant Protection Products. Software may only be included if it is an integral part of a patented invention (computer-implemented invention) or has been patented abroad. Qualifying income can be exempted by a maximum of 90%, taking into account the modified nexus approach.
- The (cantonal) additional deduction for research and development (R&D) expenses is voluntary for the cantons and – like the patent box – reflects a clear commitment to Switzerland’s position as a location for research and industry. The basis for the additional R&D deduction of a maximum of 50% is as follows:
- Personnel costs directly related to the R&D carried out in Switzerland by the taxpayer, plus a 35% premium (for other R&D costs) – but not exceeding the total R&D costs, or
- 80% of the cost of R&D performed and invoiced by third parties in Switzerland.
- The Notional Interest Deduction (NID) was not envisaged as an additional measure in the Federal Council’s adopted dispatch, partly because it was seen as a reason for the failure of CTR III. However, the Swiss Parliament has implemented NID as an optional (cantonal) measure in the new tax act exclusively for high-tax cantons due to its importance for the economy – especially in the canton of Zurich. According to the definition and currently expected future tax rates of the cantons, only the canton of Zurich will be entitled to introduce this measure. Due to the current low interest rate environment, this measure is also only interesting for intra-group financing, whereby a higher (arm’s length) interest rate can be applied.
- The overall limitation of measures caps the effect of the three measures mentioned above (plus depreciations on disclosed hidden reserves in the tax balance in case of a change of status under current law) at 70% in order to guarantee a minimum taxable profit of 30%. This overall limitation of measures is obligatory for the cantons, but they have the option of providing for a higher minimum taxation. The effects of the measures (patent box, additional R&D deduction and notional interest deduction) will thus be reduced accordingly.
- A further instrument of the tax reform is the higher taxation of dividends for qualifying participations (at least 10%) of individual persons. In future, 70% (federal tax) or at least 50% (cantonal tax) of dividend income will be taxable. Today, only 60% of income from investments held as private assets is taxable at federal level; the cantonal thresholds vary between 35% (GL) and 70% (VD). In terms of an overall assessment, this adjustment is offset by an expected cantonal corporate income tax reduction at company level.
- For political reasons, an increase of CHF 30 per month in the minimum rates for child and education allowances was initially included in the Federal Council’s dispatch. Upon request of the Council of States, this was removed from the proposal and the additional financing of the AHV was implemented instead. This was approved by the National Council. The additional AHV financing is to correspond in amount to the expected tax losses of CHF 2 billion per year from the tax reform, based on a static analysis. Slightly more than half of the funds will be financed by an additional 0.3% social security contribution on wages and the rest with existing federal funds (existing VAT and increase in federal contribution).
- The tax reform also grants the cantons optional capital tax relief on equity capital attributable to participations, patents and similar rights as well as intra-group loans.
- If foreign companies relocate to Switzerland, they can disclose hidden reserves including goodwill tax-exempt and thus benefit from additional depreciation in the first few years (so-called step-up upon relocation).
- In order to avoid international double taxation, Swiss permanent establishments of foreign companies will in future be able to benefit from the lump-sum tax credit.
- The new law also provides for an increase in the cantonal share of direct federal tax revenue from the current 17% to 21.2%. This should enable the cantons to reduce their corporate income tax rates.
- In addition, the so-called transposition for natural persons resident in Switzerland will be tightened up. Under current law private individuals can generally sell a stake of less than 5% in a company to a company in which they own at least 50% of the shares tax-free. These potentially unjustified tax savings are to be prevented by eliminating the 5% quota.
- The municipality article, which has been tightened up by parliament, stipulates that the cantons must adequately compensate the municipalities for the effects of the tax reform.
- In addition, the capital contribution principle will be restricted. Companies listed on a Swiss stock exchange may only pay out tax-free capital contribution reserves if they distribute taxable dividends in the same amount (so-called repayment rule). This rule also applies mutatis mutandis to the issue of bonus shares and bonus increases in par value from capital contribution reserves. However, the repayment rule does not apply to capital contribution reserves created after 24 February 2008 as a result of the transfer of assets to Switzerland or a cross-border contribution to a Swiss company (including cross-border mergers and restructurings). Also, the repayment rule does not apply to capital contribution reserves paid out group internally (10% quota) in the event of liquidation or – for withholding tax purposes – the transfer of the registered office abroad. Another restrictive rule is the partial liquidation rule, according to which at least half of the liquidation surplus must be charged to the capital contribution reserves when a company listed on a Swiss stock exchange repurchases its own shares.
With the official publication of the new law, the 100-day referendum period begins; it ends in mid-January 2019. If no referendum is called, the reform could come into force on 1 January 2020. If a referendum is held, the public vote is likely to take place on 19 May 2019. If the public votes to adopt the reform, the measures could also enter into force on 1 January 2020 (or possibly 2021). The regulation concerning a temporary special tax rate solution would come into force immediately following a positive public vote or expiry of the referendum deadline. This will enable the cantons to adopt this measure early and cushion the tax rate increase for companies wishing to waive their cantonal tax status in advance.
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